Veterinary Practice Valuation: Everything You Need to Know About How It Works
It’s important for veterinarians to understand the valuation of their practice. Check out our definitive guide to veterinary practice valuation.Looking to sell your veterinary practice? Valuation is a key component of learning more about your business’ market worth.
Depending on the method of valuation, your practice may be able to sell for more than your original estimate.
In this guide, you’ll learn everything you need to know about veterinary practice valuation and the different methods that may go into valuating your clinic before your business is market-ready.
How Does Veterinary Practice Valuation Work?
Veterinary practice valuation works the same way that other business valuations work. (1) A valuation is a prediction of how the business will run and operate in the future based on historical data about the business’ performance.
For the savvy businessman, it’s worthwhile to do due diligence and acquire a business that has a low valuation and turn it around; but like houses, most veterinarian fresh out of school would rather buy a pre-existing practice that is already showing a profit, because for many veterinarians, the goal of going through veterinary school is to help animals, not necessarily to turn businesses around.
“When doing a business valuation, you do have to look backward (over the last three years of financials, as an example). However, business valuations are forward looking. In other words, a valuator has to take the knowledge they have from historical financials and apply it to the facts that they know about the future.”
While the actual percentage can vary depending on the business valuation used, the average veterinary clinic is valued at equal – about 85% – of a single year’s gross revenue for the business. If a different method is chosen, however, it may affect how enticing the business is to a potential buyer.
The average veterinary clinic profitability is anywhere from 10% to 12%, though many business valuators will consider a practice healthy and stable once profitability is between 14% and 19%.
This method of valuation is most often utilized and preferred by many veterinary clinic owners, as the business’ previous income is a likely indicator of future performance. This is especially true considering many veterinary clinics can rely on their clientele coming back annually or quarterly to care for their pet’s health.
This method may take the local population decline or growth into consideration as well, which is incentive for many veterinary clinics to diversify into other streams of revenue that don’t rely on the local population.
The idea behind this approach is that like-companies will share the same kind of profitability, growth, and popularity. The multiples method takes the key metrics that your business has and finds similar companies and multiplies those key metrics accordingly.
Using another business as a baseline of success or profitability may be fine for most businesses, but it’s not ideal for veterinary practices as it can be difficult to create in a uniform way. Every veterinarian wants to run their business how they feel is best for their patients and clientele.
The multiples method is most commonly used when a quick sale is necessary, but it may not provide a truly accurate valuation of the business.
Owner Benefit Method
This method is considered a quick way to value a business, but it is not always the preferred method if the owners did not profit from the business personally much during its previous three years of income statements. An owner benefit is expenses that the previous owner personally applied to the business, therefore would not transfer as a normal operating expense to the new owner.
The Owner Benefit (OB) method is simple; on the business’ income statement, the Owner Benefit line can help estimate the business’ total value. This number is taken and multiplied by 2.2727 to factor in other figures such as wages, debts, and a small return on investment.
Market valuation is one of the lesser-known ways to valuate a business, but it is limited in the types of businesses that can benefit from it.
Also known as OMV, an open market valuation takes the business’ historical data and current public market price and how many shares remain available at that market price. This is a common valuation method for publicly traded companies and larger corporations.
Unfortunately, since many veterinary practices are not publicly traded, this is not a common valuation to use in this way, but variations on this valuation may be used. Most small business utilize an income-based method or the multiples method instead.
What Are the Key Elements of Practice Valuation?
Your practice’s valuation can change how much its worth when selling your business. (2) Having a valuation done prior to putting your business on the market is essential to avoiding nasty surprises and can help you better understand how valuations work before you dive into the process.
“If you’re thinking of buying or selling your business, starting a new business, or may be inheriting a business from a friend or relative, it is crucial to seek the services of a business valuation professional.”
While there are multiple ways you can calculate these factors, and there are many other things that go into a veterinary practice valuation, these three key items are signs of future profitability.
- Cash Flow
These items are essential to review with any business prior to selling. Likewise, these are the main areas of improvement you’ll want to work on when you start considering selling the business.
Cash flow is a critical aspect of valuation, as it will be the primary factor for calculating how profitable your business will be in the future. If cash flow is negative, then the likelihood that the business will need to acquire a loan is greater than if the business’ cash flow is positive.
This forecast helps defer the cost of the impending loan for the buyer, giving them a chance to be able to turn the cash flow issue around. A positive cash flow is ideal for receiving a higher valuation, and buyers will be more interested in a business that can show positive profitability over one that cannot.
The assets that a business comes with in the sale may be calculated – at a depreciated rate – in the business’ valuation as well. This is especially good news for veterinary practices, as the medical equipment that the clinic must be stocked with can be difficult to move, and buyers don’t often have the capital to purchase everything new at once.
The advantage to buying a veterinary practice that already has the stocked equipment as part of the sale is that these pieces are often under warranty still, and instead of purchasing all of the equipment at once, it is often already provided as a part of the business’ prior expansion or upgrades over the years.
The growth of your business is critical, as if your business has shown a decline in recent years, the valuation can only forecast that the business will continue to decline if it continues operation.
There are multiple ways that a business can grow, but most often this is calculated as the amount of profit or clients that a veterinary practice has to show.
Showcasing positive growth is ideal for receiving a higher valuation when it’s time to sell, however, it’s not the only indicator of success that buyers look for when purchasing a new business. Scalability of operations and diversity of revenue streams are also two major areas of concern for buyers.
Calculating Operating Profit
Operating profit is the amount of profit that a business makes – often calculated as a percentage – that the practice takes in above the costs and expenses of running the business.
These expenses include any personnel, operating costs, owner salaries, or other expenses that are essential to the business’ normal daily operation.
Operating profit does not take any other type of expense into consideration, however, and that includes taxes and loan interest.
Veterinary practices that employ a bookkeeper will have their profit and loss sheets calculated with operating profit as a part of the sheet, showcasing the practice’s growth or downtrend over the previous quarter. Profit and loss sheets may also be calculated on an annual basis, or it may be calculated at the time of valuation based on the business’ previous bookkeeping records.
Operating profit allows you insight into the overall operation of your business, how well you’re managing the company’s finances, and where expenses could be lessened.
Profit Indicators to Consider
The professional who performs the valuation of the business will consider several profit indicators to forecast the future revenue growth and profitability of the business. These profit indicators may change based on the location of your practice and the valuation method, however, indicators may include:
- The business’ ability to pay back debts in the short-term
- The company’s previous profit and loss history
- The proposed business plan for future operations
- Sustainability and growth of current revenue, including diversity of multiple revenue streams
Between the multiple ways that a business’ valuation can be calculated and the variables that require consideration, it’s important to hire a professional to valuate your business, rather than doing an owner-valuation, when it’s time to sell your practice.
Types of Ownership Transition
When you purchase a veterinary practice from the owner of the business, there are different types of ownership transitions that can occur based on the relationship you have with the business owner and how the company is structured:
- INTERNAL SUCCESSION
This type of ownership transition is an internal decision made by the business owner when it’s time to exit the business. Often, instead of putting the business out for an external buyer to purchase, they sell or leave the business to a highly trusted employee.
Depending on the priorities of the owner and the individual employees, this may be to anyone who is interested in the business, the most business-savvy personnel, the highest promoted, or another criterion. In some cases, the succession is made by a family member of the owner, such as a sibling or a child.
- MINORITY RECAP
This type of transition is not a full sale, but a partnership. It does, however, allow the business owner to begin dissolving some of their risk in the business without giving up majority control. The minority partner acquires less than 50% of the business based on their investment but receives the ability to guide planning and processes as a part of their preferred equity position.
This is an ideal transition for owners who are not ready to move on from their business but are looking to exit the business completely within the next 5-10 years.
- MAJORITY SALE
This type of sale is an excellent way for the owner to receive a payout when they exit but still retain a minority share below 50%. No long in majority control, much of the pressure of running the business is alleviated.
However, because the old owner is still invested in equity shares of the company, they can cash in on the business’ sale again when the majority owner eventually sells the practice, assuming they have increased the business’ value.
- COMPLETE SALE
A complete sale is a single transaction to an external buyer. 100% of the company must be sold to the buyer, either to an individual or to an equity firm. This means that the buyer purchases the business in whole, including any contracts, client lists, equipment, and debts that the business has at the time of sale.
The previous owner is typically required to remain on-hand so that the business can run as intended for the first six months before leaving the practice. Sometimes, the practice owner may wish to remain on as an employee, however, which is done at the discretion of the new owner.
How Much is a Veterinary Practice Worth?
A veterinary practice is often worth a three-year forecast of its historical profits over the previous year, though there are other profitability calculations that may value it anywhere from 6 to 9 times the previous year if more historical data can showcase that the trend is likely to continue.
This forecasting valuation method is the most common to utilize when selling a business, but there are other methods that may change how much a veterinary practice is worth to a buyer.
Typically, veterinary practices that are older and more established are much more expensive up-front, but also provide greater returns so long as the business can pick up and continue from where it left-off.
The successful running of a veterinary practice relies on the new owner doing their due diligence up front, learning the business’ daily operations prior to completing the sale, and continuing those operating standards, or implementing a gradual change of standard procedures.
What Are Veterinary Practices Selling For?
From the ground up, it takes around $1 million to build, start, and begin operating a small veterinary clinic. Mobile clinics take much less to start from the ground-up, weighing in at around $250,000, but they take a hit in the average profit as mobile clinics have not risen to the same level of popularity as brick-and-mortar clinics.
Some people, however, aren’t interested in starting a business from the ground up and would rather start with a pre-existing client list, commercial space, and often staff. Beyond that, an existing veterinary practice has an easier time turning a profit in the earlier years of operation, as it’s already an established facility with the local population.
The valuation can change the amount that these practices sell for, though they are often valuated on a three-year average profit forecast. Most practices will sell for $600,000 to $5-million depending on these valuation factors, though price can also change with location, demand, and reason for selling.
When you’re in the market to buy or sell your veterinary practice, contact the team at BSF, your veterinary practice brokers. We’ll help you find the right fit for your needs, whether you’re looking to buy a small clinic for the first time, expand your pre-existing business, or are looking to sell your current business.
We can help guide you through the process of veterinary practice valuation, whether you’re buying or selling a practice; give us a call today or email us to start a conversation about your veterinary practice.
- Forbes.com, The Good News for Your Business Valuation During Unprecedented Times
- Huffpost.com, Why Using a Business Valuator is Worthwhile
- Forbes.com, The Good News for Your Business Valuation During Unprecedented Times